The title of today's blog comes from a song by Michael W. Smith. Many of the residents of Tennessee have been affected by the recent floods, including many artists in the music industry who store their equipment in Nashville.
Flooding can be a problem anywhere in the country. In 2006, El Paso, Texas received 18 inches of rain in one year. While that does not seem like much to most Americans, for us it was catastrophic. In the desert, we do not have much natural ground cover so heavy rains produce flash flooding which washes out streets, homes and businesses. It is expensive and difficult to recover from. In our case, it is also rare. Our weathercasters named it the 100 year flood, because they don't expect us to see it again for a while.
Ironically, many of the people who experienced problems in El Paso during the 2006 floods were not in recognized flood zones. Our flood zones are in low lying areas, and areas by the river, but most of the people who were really affected lived on the mountain and in higher elevations where rising river water was not an issue. They were the victims of heavy flow off the mountain that threatened what they owned.
Disasters like ours, and the heavy flooding in Tennessee which has been expensive and devastating to many Americans make us especially concerned when we hear that the National Flood Insurance Program has been defunded twice since January 1. According to government, the program insures 5,500,000 Americans, but it is heavily indebted and without Congressional authorization to fund this program, it cannot continue. The program initially expired September 28, 2009, and it received an extension up until February 28. No re-extension was signed until March 3, and then that extension expired at the end of March. The program was defunded for the first 18 days of April, and then it was extended through the end of May, 2010.
While most would agree that the National Flood Insurance program is necessary, it's refunding is tied to other political footballs. The most recent extension was tied to the same bill extending unemployment benefits, and since that bill was a political hot button, the flood insurance program languished for days. Congress estimates that the lapse in funding for the flood insurance program prevented close to 1400 homebuyers from closing on home purchases per day, since no home purchases in flood zones could be closed without a flood policy in force, and no flood insurance policy could be in force while the program had no funding. (Although the press secretary for FEMA assures us that all existing policies remained in force and service was uninterrupted.)
Enter Barney Frank and Maxine Waters who have plan to fix this problem. Maxine Waters, (D-CA) has introduced HR 5114--the Flood Insurance Reform Priorities Act. On May 10, Barney Frank (D MA) introduced his own smaller companion piece of legislation, HR 5255, the Stable Flood Insurance Authorization Act of 2010.
Unlike so many bills floating through Congress these days, these two bills are short and to the point. FEMA has remapped much of the US to expand the flood maps to include more areas and properties. HR 5114 (Water's bill) extends the NFIP's funding through September of 2015, and it contains new provisions for mandatory flood insurance for areas that have previously not been flood zones. It raises the flood insurance limits from $250,000 to $335,000, and it contains a provision for raising premiums on homeowners currently living in flood zones and carrying flood insurance by 20% per year (The current rate of premium increase is capped at 10% per year).
HR 5114 calls for a 5 year phase in of flood insurance rates for homeowners in newly mapped areas. Anyone living in a home that is now in a flood zone but was not previously will be subject to a scale as follows:
1. For the first year of the five year period, 20% of the chargeable risk premium rate
.
2. For the second year of the five year period, 40% of the chargeable risk premium.
3. For the third year, 60% of the premium
4. For the fourth year 80%.
5. During the fifth year, the premium becomes 100%.
The new law requires FEMA to notify homeowners in newly mapped zones that they live in a flood zone, where its boundaries are, and generally what other similar homeowners in similar areas pay for flood insurance.
Barney Frank's companion bill gives the director of the FEMA the authority to set premium rates by notice and sets a three year delay in the effective mandatory purchase requirement for new flood areas as designated in flood insurance maps on or after September 2008. In other words, if you have been living in your house for 25 years and never had a drop of water in it, you may be getting a mandatory insurance notice next year that you have to purchase flood insurance on the scale just described above.
Interestingly, HR 5114 acknowledges at the beginning that NFIP has struggled financially, by stating in paragraph 3, of Section 2, that "Several years of below average flood claims losses and increased voluntary participation in the National Flood Insurance Program have allowed the program to fully service the debt incurred following Hurricanes Katrina and Rita and allowed the program to pay $598,000,000 of the principal of that outstanding debt." (Notice that the bill states how much they paid back, but not the amount of the outstanding debt.) Water's bill creates a $50,000,000 grant for outreach to property owners and renters. The uses of this grant include identifying the owners of residential and commercial properties in communities that participate in the national flood insurance program, educating owners and renters as to the risks of flooding and the continued flood risks to areas that are no longer subject to the flood insurance mandatory purchase requirements, and encouraging such owners and renters to maintain or purchase flood policies.
Remember that the language of HR 5114 states specifically that the National Flood Insurance Program has been able to pay back part of its debt through increased voluntary participation. Considering that we know that one important key to insurance is spreading risk among the largest pool possible, isn't it likely that mapping properties that have never been in flood zones before and spending the $50,000,000 in grants to encourage homeowners to buy insurance is just a way of spreading the risk NFIP and further increasing revenues? By letting the funding lapse, Congress has incentivized the insurance and mortgage industries to welcome the 5 year extension to NFIP without questioning the contents of the bills or the ultimate costs in premiums to homeowners and business owners who are going to be helping to pay back the rest of NFIP's debt.
Every Loan a Government Loan Part I
Within the last couple of weeks, the Federal Housing Administration (FHA) released guidelines regarding new rules for allowing smaller lenders and mortgage brokers to originate FHA loans. The new rules raise the minimum net worth for approved lenders from $250,000 to $1,000,000. Within three years the net worth requirement will increase to $1,000,000 plus "1% of the total loan volume in excess of $25,000,000". (Source Scotsman's Guide Volume 17 Issue 5).
For small business owners and brokers this is a huge shift. Originating FHA loans has long been a problem for extremely small brokers and originators because FHA required that the broker be FHA approved, meet net worth requirements and complete an annual audit which was very expensive. For individual companies who chose to do the work and pay the expense of approval, the ability to offer FHA gave them a distinct competitive advantage. However, over the past decade, FHA use had steadily declined. FHA, which required a 3% downpayment, did not compete favorably with conventional loan programs offered at 100% financing through Fannie Mae and Freddie Mac. These loan programs utilized private mortgage insurance, but they allowed more flexibility in appraisals than an FHA loan. Most importantly, they were readily available; any originator who sold loans to lenders who sold to Fannie Mae and Freddie Mac--which was basically everyone--offered conventional products. To compete with the other products on the market, lenders offering FHA tried to partner their 97% loan with downpayment assistance programs. But by 2005, FHA loans comprised only about 2% of the market.
Today however, government loans make up approximately 50% of all purchase applications. In a world where conventional loans require a minimum of 5%, and in most cases 10% or 20% down to secure financing, FHA, VA (Veterans' Administration loans) and USDA (US Department of Agricultural Rural Housing loans) have again become attractive options for homebuyers who want to get into the housing market but have not been able to save a downpayment.
But is the shift to government loans a good thing? According to David Stevens, Commissioner of the Federal Housing Administration in an interview that he gave to the Scotman's Guide in January of 2010, "We shouldn't be growing this fast." FHA's congressionally mandated reserve requirements have fallen below the required levels, leading some economists to argue that Congress will end up having to authorize a bailout for FHA. And according to Stevens, the FHA program was never designed to handle the type of volume it is doing today.
So what does this mean in terms of small business? No one is quite sure yet. The new capitalization requirements will exclude some smaller lenders who will not be able to meet the reserve requirements. Mortgage brokers who have always offered FHA are displeased with the changes because they have worked and sacrificed to meet the reserve requirements to offer a program that they will now be able to offer only by partnering with a major lender. Small brokers who have never been able to offer FHA hold out hope that by partnering with a lender who is willing to sponsor them, they will be able to offer FHA for the first time, but we are all aware of the warnings--by making the lenders completely responsible for the actions of each broker they sponsor, HUD (The department of Housing and Urban Development) may have killed any chance that any of us have to close FHA loans. According to Stevens, in his January interview, FHA's main plan to curb losses is to hold lenders accountable if they originate loans outside of FHA guidelines. Now that will include holding them responsible for the loans originated by brokers as well. And if that is, indeed, the case, the biggest source of financing for first time homebuyers and repeat purchasers may have just been taken away from small business owners and given exclusively to the bigger players. As refinances end due to rising interest rates, all originators will be competing fiercely for purchase loans and FHA will be an ever more important part of that competition.
The answer to this problem ultimately lies in the private sector, a fact which Stevens acknowledges as he tells Scotman's Guide that the ultimate solution is to get private capital back into the market so that FHA loans can return to their historic levels. In the end, private, free market solutions and make sense loans can meet the needs of the homebuyers and prevent Uncle Sam from having to bailout himself.
For small business owners and brokers this is a huge shift. Originating FHA loans has long been a problem for extremely small brokers and originators because FHA required that the broker be FHA approved, meet net worth requirements and complete an annual audit which was very expensive. For individual companies who chose to do the work and pay the expense of approval, the ability to offer FHA gave them a distinct competitive advantage. However, over the past decade, FHA use had steadily declined. FHA, which required a 3% downpayment, did not compete favorably with conventional loan programs offered at 100% financing through Fannie Mae and Freddie Mac. These loan programs utilized private mortgage insurance, but they allowed more flexibility in appraisals than an FHA loan. Most importantly, they were readily available; any originator who sold loans to lenders who sold to Fannie Mae and Freddie Mac--which was basically everyone--offered conventional products. To compete with the other products on the market, lenders offering FHA tried to partner their 97% loan with downpayment assistance programs. But by 2005, FHA loans comprised only about 2% of the market.
Today however, government loans make up approximately 50% of all purchase applications. In a world where conventional loans require a minimum of 5%, and in most cases 10% or 20% down to secure financing, FHA, VA (Veterans' Administration loans) and USDA (US Department of Agricultural Rural Housing loans) have again become attractive options for homebuyers who want to get into the housing market but have not been able to save a downpayment.
But is the shift to government loans a good thing? According to David Stevens, Commissioner of the Federal Housing Administration in an interview that he gave to the Scotman's Guide in January of 2010, "We shouldn't be growing this fast." FHA's congressionally mandated reserve requirements have fallen below the required levels, leading some economists to argue that Congress will end up having to authorize a bailout for FHA. And according to Stevens, the FHA program was never designed to handle the type of volume it is doing today.
So what does this mean in terms of small business? No one is quite sure yet. The new capitalization requirements will exclude some smaller lenders who will not be able to meet the reserve requirements. Mortgage brokers who have always offered FHA are displeased with the changes because they have worked and sacrificed to meet the reserve requirements to offer a program that they will now be able to offer only by partnering with a major lender. Small brokers who have never been able to offer FHA hold out hope that by partnering with a lender who is willing to sponsor them, they will be able to offer FHA for the first time, but we are all aware of the warnings--by making the lenders completely responsible for the actions of each broker they sponsor, HUD (The department of Housing and Urban Development) may have killed any chance that any of us have to close FHA loans. According to Stevens, in his January interview, FHA's main plan to curb losses is to hold lenders accountable if they originate loans outside of FHA guidelines. Now that will include holding them responsible for the loans originated by brokers as well. And if that is, indeed, the case, the biggest source of financing for first time homebuyers and repeat purchasers may have just been taken away from small business owners and given exclusively to the bigger players. As refinances end due to rising interest rates, all originators will be competing fiercely for purchase loans and FHA will be an ever more important part of that competition.
The answer to this problem ultimately lies in the private sector, a fact which Stevens acknowledges as he tells Scotman's Guide that the ultimate solution is to get private capital back into the market so that FHA loans can return to their historic levels. In the end, private, free market solutions and make sense loans can meet the needs of the homebuyers and prevent Uncle Sam from having to bailout himself.
GLC to move compromise ABS motion at Law Society AGM
There has been great division within Scotland's legal profession over Alternative Business Structures (ABS). For example, a large majority of solicitors at the most recent SGM voted against the principle of external, capital, ownership of law firms – while there is no denying there remains support for this form of ABS within the legal profession. Accordingly, Govan Law Centre's motion is an attempt to square the circle, heal divisions, and unite Scotland’s legal profession around an effective and reasonable compromise.A primary policy aim of the Legal Services (Scotland) Bill (‘the Bill’) is to enable greater legal services competition, innovation and growth in Scotland. We all support those principles, notwithstanding the Justice Committee has pointed out that no evidence has been presented to show our current system is deficient.
The strength of the Scottish legal system is that legal services are provided by independent firms of solicitors within a robust and invasive regulatory regime. A system where practitioners are more than sum of their business parts; operating as members of a common profession with an ethical framework instilled as undergraduate, postgraduate, trainee solicitor; enforced through peer pressure and our Law Society. A system where practitioners provide a quasi-public service and owe their first duty to the court.
The proposed motion would safeguard those core values, while facilitating innovation, growth and greater competition. Innovative ABS arrangements and partnerships could be entered into with non-solicitors. However, the motion would help ensure that any ABS remained a Scottish law firm by capping non-solicitor ownership or control at 25%. Clients of such an ABS would continue to enjoy legal professional privilege.
From a regulatory perspective, all of the concerns associated with the ability of corporate external investors and shareholders to own and exercise control, or influence, over an ABS would be resolved by requiring non-solicitors to be natural persons providing services as part of the business: for example, as surveyors, architects, IT experts, estate agents, accountants, or other professionals.
The arguments for, and against, external capital ownership have been well discussed and there is no need to repeat them here. As presently drafted, the Bill would create a liberalised ‘light touch’ regulatory system for Scottish legal services, relying upon a weak risk management system.
This form of ABS was conceived in the era before the UK financial services meltdown. For example, while the UK Parliament was enacting the English Legal Services Act in 2007, the consequences of a liberalised financial services market were only beginning to show, with a run on Northern Rock in September of that same year. It is highly doubtful that the UK Parliament would have embraced the current English form of ABS if they had known what we know now.
Certainly, financial services regulation in the UK has since moved towards an invasive, deep search, system. The economist John Maynard Keynes famously said: ‘When the facts change, I change my mind. What do you do, sir?’ The facts on ABS have changed.
Motion proposed by Mike Dailly, Govan Law Centre and seconded by Lorraine Barrie, Govanhill Law Centre.
"The members of the Law Society of Scotland in general meeting call upon the Scottish Parliament to amend the terms of the Legal Services (Scotland) Bill, presently before parliament, to the effect that at least 75% ownership and control of any entity authorised to carry out work which is reserved to persons qualified to practice as solicitors in terms of the Solicitors (Scotland) Act 1980 should (except in relation to any entity not vested in persons so qualified but which provides legal services as authorised by current law) be vested in solicitors who hold valid practising certificates free of conditions (as construed by reference to section 15(1) of the 1980 Act); and that no more than 25% of said entity should be owned or controlled by natural persons not being solicitors with a valid practising certificate, each of whom provides services which are in support of, incidental to, or complementary to the provision of legal services by the entity".
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